5.2.4. Debt Service Coverage Ratio
One measure of the liquidity of the flow of funds is the debt service coverage ratio, a ratio that measures how well an issuer’s operating income is able to cover its outstanding debt payments. This ratio is one of the most important aspects of revenue bond analysis.
The net operating income of a project is its total revenue minus operating expenses (including cost of goods sold), but it does not subtract tax liability or interest paid on debt.
Current debt service refers to any bond payments that are due within one year.
A ratio of less than one indicates that cash flows are insufficient to pay for an issuer’s annual principal and interest payments. A ratio of two or above is generally considered acceptable for an issuer of a revenue bond.
For example, a debt service coverage ratio of 2.2 would mean that a project was a good candidate for a revenue bond.
Example: Debt Service Coverage Calculation for Goodville Water Treatment Facility
|
Total Revenue |
$273,000,000 |
|
Total Operating Expenses |
$75,000,000 |
|
Net Operating Income |
$198,000,000 |
|
Revenue Bond Service Payments |
$90,000,000 |
|
Net Income |
-$108,000,000 |
Debt Service Coverage Ratio
SAMPLE QUESTION 1
All of the following would suggest a high rating for a municipal GO bond except:
A. Low overlapping debt
B. A municipality with high property values that are growing
C. A municipality that is not hostile to tax increases
D. A high debt service coverage ratio
Answer: D. Municipalities with high income and high property values, and that are not hostile to tax increases, woul